Zhongpin: Low on the HOGS

Zhongpin: Low on the HOGS

Monday, July 18, 2011

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Pork producer Zhongpin (HOGS.NASDAQ) is one of the more volatile stocks to emerge from the Middle Kingdom. The share price of the Henan-based company has fluctuated between US$9 and US$25 in the past 12 months and fallen nearly 50% since January 1.

Volatility implies both high risk and potentially high rewards, but this is a stock to avoid. Zhongpin is running a real business, but our research shows it is significantly smaller than the company has claimed in its official filings – calling into question both Zhongpin’s reported revenues and its integrity.

High on the hogThe first major discrepancy is that Zhongpin claims to buy far more hogs from large Henan breeding farms (1.1 million) than breeding farms report supplying to Zhongpin (81,000). We contacted dozens of farms in Henan, but we only found four that confirmed supplying to Zhongpin. Furthermore, when we asked Zhongpin to specify the names of the farms it buys from, the purchasing manager stated only these four that we had found.

Why would Zhongpin overstate this? There are two possibilities: Since hogs raised by large breeding farms are usually higher-quality, overstating this figure makes its business seem more appealing. Or Zhongpin could be overstating revenues – obviously, neither is good.

Secondly, the company claims to run more than 1,200 retail stores in Henan where it sells its meat, but our field teams found only 83 in total. Our research was thorough: In Luoyang, for example, where Zhongpin claimed have more than 100 stores, our detailed street-by-street survey found only 33. Even the store managers themselves estimated that there were far fewer Zhongpin stores in their cities than the company reported.

Hands offThese are just some of our findings that bring into question the legitimacy of Zhongpin’s revenue figures. Taken together, they suggest Zhongpin has overstated its 2010 revenues by 20-30%.

Regardless of these findings, Zhongpin’s share price could rise in the coming months; the company announced a plan in July to repurchase up to US$10 million of its stock over the next 12 months. But even if a repurchase does push the price up, investors would be wise to resist the temptation. Zhongpin is at risk of being the next stock to be targeted by short-sellers for falsifying its business.